Australia shares need rate pause, strong demand

SarahTurner

SYDNEY (MarketWatch) — Whether Australian shares add to their gains so far this year will depend on continued looser monetary conditions and strength in demand at home and abroad, strategists say.

The Australian benchmark S&P/ASX 200 index (XJO) has advanced 1.4% since the start of the year — almost as much as the 2% gain seen over the past 12 months, which also includes the year-to-date progress.

Prior to January, worries about potential rate-hikes from the Reserve Bank of Australia topped the agenda for many investors. Those worries were exacerbated after the RBA unexpectedly raised its policy cash rate by a quarter-point to 4.75% last November.

However, rate-hike expectations have been scaled back recently after some soft economic data and as massive flooding in the eastern states led economists and the government to reduce economic growth forecasts due lost mineral and agricultural production.

Westpac's Kelly: Australian better

In a two-track global economy, is Australia stuck in the middle? Gail Kelly, chief executive of Westpac, the second-largest banking firm in Australia, explains how the economy is surviving Down Under.

On Friday, HSBC’s Australian economists pushed out their rate hike forecast for 2011 further into the future, to May or June. HSBC expects the RBA to hike the policy rate by half a percentage point this year.

“The case to leave rates unchanged in the next few months is strong,” they said, adding that inflation is comfortably within the lower half of the RBA’s target band and that uncertainty about the economic effect of the floods is “huge.”

The RBA holds its first rate-setting meeting for the year next week and is widely expected to stand pat on rates.

For the equity market, “the tightening of local monetary conditions, and the damage it has done to earnings and stock ratings, is mostly over,” said Bank of America Merrill Lynch’s Australia-based equity strategists.

Domestic stocks, including financials, transport, construction and developers, now stand to benefit, they said.

Australian banks with a heavy domestic presence have lost ground over the past 12 months, with Commonwealth Bank of Australia (CBA)
CBAUF, +2.98%
down 3.8%, National Australia Bank Ltd. (NAB)
NAUBF, +2.05%
down 6.5%, and Westpac Banking Corp. (WBC)
WEBNF, +4.55%
down 5.6%.

Still, these banks — which are among the most heavily weighted stocks in the S&P/ASX 200 index — have put in a better performance since the start of the year, with Commonwealth Bank shares up 3.4%, National Australia Bank up 3.6%, and Westpac up 3.3%. On Friday, however, a bearish mood in Asia weighed on the broader market, with Commonwealth down 0.2%, NAB falling 0.3% and Westpac flat.

Demand is key

“Domestically oriented stocks did it tough in 2010, but we think the nadir is nigh. Rates are probably on hold for some time, and wage growth will pick up. Both of these should support consumer sentiment, which tends to be correlated with earnings,” the Merrill Lynch strategists said.

The Australian earnings season picks up in earnest over the next few weeks. Consensus forecasts for the year to June 2011 are for aggregate earnings-per-share growth of 19% and sales growth of 10%, the Merrill strategists said.

Still, risks remain on the consumer-spending side. Investors were thrown a curve ball on Thursday, when Prime Minister Julia Gillard announced a one-time tax to help pay for damage caused by recent floods, as she estimated a $5 billion-plus bill for the government.

Shane Oliver, head of investment strategy at AMP Capital, said Friday that while the impact of the levy should be modest and temporary, the news “won’t help consumer spending, with households already facing sharp increases for food prices, utility bills, insurance premiums, rents and health costs.”

However, he said that any short-term pullback should be seen as a buying opportunity and that Australian shares are likely to gain through 2011.

“Shares are cheap, the run of better-than-expected global economic data is continuing, suggesting that 2011 is on track for strong economic growth, which should in turn drive another year of solid profit growth,” he said.

Intraday Data provided by SIX Financial Information and subject to terms of use.
Historical and current end-of-day data provided by SIX Financial Information. Intraday data
delayed per exchange requirements. S&P/Dow Jones Indices (SM) from Dow Jones & Company, Inc.
All quotes are in local exchange time. Real time last sale data provided by NASDAQ. More
information on NASDAQ traded symbols and their current financial status. Intraday
data delayed 15 minutes for Nasdaq, and 20 minutes for other exchanges. S&P/Dow Jones Indices (SM)
from Dow Jones & Company, Inc. SEHK intraday data is provided by SIX Financial Information and is
at least 60-minutes delayed. All quotes are in local exchange time.